Insider Buys Reveal More Than Sales

NEW YORK ( TheStreet) -- Investors sitting on the sidelines during the latest rally in stocks should have taken a look at insider buying patterns last summer and dipped their toes in the market as a result, according to a new report from Insiderscore.com, which tracks trading by corporate executives.

Insider buying activity is a much better indicator of when an investor can catch a coming bull wave than insider selling is a red flag of overpriced equities, and the latest data is one more confirmation of this long-holding pattern.

"Buying activity is a lot more illuminating than the insider sells and when we see market-wide buying, it's an inflection point signaling a bottom or that the market is about to find a bottom," said Ben Silverman, research director at Insiderscore.com.

In August 2011, insider buying reached multi-year highs. In fact, insiders bought up shares at the most aggressive pace since the market bottom of March 2009.

While the true bottom didn't come until October, now six-plus months have passed since the August 2011 insider buying binge and the major U.S. equity indices have all surged more than 20% off the October lows.

In fact, no significant market move to the upside has been absent of insider buying since at least 1982, Insiderscore.com says. The research firm looked at the four most recent insider buy inflection points, too. All resulted in considerable gains (using the Wilshire 5000 Index, ex-financials) over the subsequent six-month period.

February 9, 2010: 10.2%

May 27, 2010: 10.3%

August 30, 2010: 28.6%

August 9, 2011: 20.6%

The data can be viewed relative to a decrease in net selling by insiders -- not just the buying -- and in terms of showing insider conviction at the worst of times, not just momentary dips like last August.

A study on market-wide insider activity from 1982 to 1999, Corporate Insiders' Big Block Transactions, written by Steven Leuthold, the founder and chief investment officer of the Leuthold Group, and Eric Bjorgen, a portfolio manager at the firm, showed that the 10-week average of dollar volume of net insider sells seems to work extremely well in identifying bear market bottoms. When net selling has hit historic lows, it identified the market bottoms of 1984, 1987 and 1990 within several weeks.

Investment Intelligence from Insider Trading, by University of Michigan finance professor Dr. Nejat Seyhun, found that insiders purchased more stock in their companies in the month of October 1987 than any other period from 1975 to 1994.

Insider selling trends are much more complicated to analyze on an industry-wide basis, with executives selling for reasons of liquidity, timing related to the vesting of options, and the fact that selling can be price agnostic since insiders have a zero-cost basis.

"Stock options aren't about aligning management and shareholder interest, but about aligning management interest with a higher stock price," Silverman said. "Buying is a lot more simple because it's a clear sign that management thinks the stock will go up, where selling has many moving parts," he added.

When it comes to big insider sells, the investor is advised to only consider it as a red flag on a company-specific basis, especially in the first quarter of the calendar year, when many executives have previous year options reaching a vesting date.

"When you see Tim Cook, Apple ( AAPL) CEO, sell this time of year you might think it's meaningful, but he has done it for the past several years at the same time, and the vast majority of his compensation is in stock," Silverman said.

There has been a market-wide increase in selling for the last month, but it hasn't reached a level of concern that would supersede the impact of seasonal selling. "There's no macro call to make yet. Historically there is more selling in bull markets and more selling this time of year," Silverman said.